One trend that we are seeing nationwide as investors are the unfortunate effects of adjustable rate loans that originated 2-4 years ago when interest rates were low. There are numerous examples of owner occupied properties (first time homebuyers and new construction for the most part) that were financed into loans that were very dangerous for the buyers on a long-term basis. We’ve all heard the radio commercials that say, “Why rent when you can own, come to XYZ community this weekend and move in for $699/month.” For the homebuyers that understand how to utilize these loans to their benefit they are great tools. Unfortunately, there are a number of homebuyers that should not have been buying homes on those terms or buying homes at all. When I write about “those terms”, I am writing about 2 year adjustable loans that are fixed for 2 years then the payment starts adjusting upwards to finally reach a point where it is not feasible for the homebuyer to afford to live in the property. In this case that $699/month payment may keep increasing by $120 or more frequently and the buyer cannot adjust their lifestyle to afford it.

Who is responsible for this activity? Well, that is a debate that I’ve heard many different angles on. The federal government has recently been involved to now regulate the minimum credit score needed to receive 100% financing and other loan programs. For example, 1 year ago a homeowner may have been able to get a 100% financed loan with a 560-580 credit score. Now, the average is around a 600-620 mid-score. You may be thinking….what’s 20 points? Well, it’s a lot to most of those folks in that credit range as this not only effects how much they can borrow and at what loan-to-value (LTV) but at what interest rate. This brings forth the following question…

Is it the mortgage broker/company’s fault or is it the homeowner for getting themselves into this type of scenario? The answer is both. There are many great mortgage brokers out there that really help a lot of homebuyers with these programs. I’ve spoken to many of them and their position is that they will explain the 2 year adjustable rate plans to the prospective homebuyers and create a plan for them to bring their credit scores up over the 2 year period then refinance into a better loan program after the 2 year period is over. If the prospective homebuyer decides to proceed then they know all the details and have an action plan for success. If they fail to follow the plan then shame on them. However, the flip side of this scenario is the mortgage broker that doesn’t explain these terms and the program dynamics thoroughly to these prospective homebuyers. The result is 2 years later they are facing a troubling situation. We have received numerous calls from these folks needing to sell their homes and have found that half are accountable for their actions and half of them claim they had no idea their payment would increase like it has. Note: When I say the term “mortgage brokers” this also could be a bank, builder, etc.

So how do these scenarios play out for real estate investors? As investors we can help a lot of these people that are in trouble through many creative solutions. Unfortunately, there are also a number of scenarios in that some of these homebuyers are 100% financed (or higher) on new homes and from an investment perspective it is not always feasible to help them. What you can expect to see are a lot more bank owned properties (REO = Real Estate Owned) hitting your local Multiple Listing Service (MLS) systems. When families face foreclosure and an investor has not come in to solve the problem before the property is sold on the courthouse steps, usually a representative from the bank is at the sale to buy the property back to protect the banks’ interest. So as more and more of these adjustable loans become a problem for homeowners that lack the credit to refinance, we will see a lot more properties hit the courthouse steps nationwide and become bank owned. They will then be offered via local approved REO real estate agents for that bank in your local markets. The opportunities will be much larger for investors to buy properties at a discount conventionally because banks will need to free up these non-performing liabilities from their portfolios. Per federal guidelines, a bank needs to keep 3 times the amount of a loan in reserves. For example, if they loan out $200,000 then they need to keep $600,000 in reserves. You can see very clearly why selling these homes is in their best interest so that they can provide new loans to homebuyers.

Take care,

Mike

Answer: First, congratulations on purchasing your townhouse. Over the long run, your investment of ownership in your dwelling is likely to be very profitable. Remember at the end of the journey, a homeowner pays off his mortgage and owns a house. A renter has zip.

Now, let’s get to your question. Although many experts will say it’s wise for income earning folks to have a large mortgage because of the low rates and tax deduction, it’s not right for everyone. Here are some things to think about:

• Private Mortgage Insurance (PMI). PMI is a monthly fee that the borrower pays if the first trust loan exceeds 80 percent of the purchase price. Since a lower down payment results in a statistically higher risk to the lender, PMI insures a portion of the loan to reduce the risk to the lender. Thanks to creative lenders, however, a borrower can still put as little as no money down and avoid PMI by taking out two loans. Ask your loan officer about loan packages with no PMI, sometimes called “piggy-back” financing.

• Monthly payment “comfort level”. This is a very important issue. If you have good credit and income, most lenders will qualify you for a larger loan amount than your would want. The first thing you should do is assess your personal spending and saving habits and try to come up with the maximum mortgage payment that would fit into your budget.

• Taxes. Understand the benefits of mortgage interest and real estate tax deduction. Since you will own the home, you will be able to deduct all the interest and taxes you pay on the home. Consult a tax expert on these issues, but it’s important to get an idea of how much of a tax break you will receive if you own the home. This will help you decide your mortgage amount.

• Opportunity costs. Analyze the “opportunity cost” of a large down payment. In other words, if you put down 20 percent, or $44,000, what are you giving up? Is the $44,000 earning a good rate of return? Do you have to sell securities and pay capital gains taxes to liquidate the money? Get an idea of how much it will cost you to put down $44,000.

• Other debts. Take into consideration other debt you may have. For example, if you are carrying substantial credit card debt, it would probably be better to pay the cards off instead of putting down a large down payment.

Hopefully this is a start in the right direction when determining what mortgage balance you should carry. But as I said, congratulations on purchasing a home.

By Henry Savage
RealtyTimes

First Time Homebuyer Tax Credit

Take care and happy house hunting,

Mike